New IRS Letter to Small Businesses Draws Flak from Congress

The IRS – already under fire for activities targeting tax-exempt applications of conservative groups and wasting taxpayer money at conferences – is facing more pressure from Congress this week. Some lawmakers are criticizing a slew of letters sent by the nation's tax collection agency to thousands of small business owners. Essentially, the letter questions if operators of "Mom and Pop" stores and other small business operations have paid their taxes in full.

The controversial new letter, bearing the heading of "Notification of Possible Income Underreporting," asks recipients to review their last year's tax return to confirm that all of their income was accurately reported. Recipients were selected based on information that the IRS has begun to collect about credit card and debit card transactions. To this point, the IRS acknowledges that it has sent approximately 20,000 letters to employers around the country.

The IRS is aiming to crack down on businesses that have reported a disproportionate share of receipts from card transactions in the belief they have may have omitted cash transactions, which are more difficult to trace and often go unreported. A form attached to the letter requires recipients to explain why the portion of gross receipts resulting from non-card payments appears unusually low for their type of business. It warns that a failure to respond to the request may result in detrimental action.

Some members of Congress are objecting to the tone of the letter and the apparent insinuations. "This gives the impression that the IRS is looking for more than just additional information," wrote Sam Graves (R-MO), chairman of the House Small Business Committee, in a letter dated August 9 to Faris Fink, currently head of the IRS Small Business and Self-Employed Division. (Fink himself was in the news recently when it was disclosed he portrayed Mr. Spock, pointy ears and all, in a Star Trek parody produced by the IRS for training purposes. He has since apologized for his participation in the video.)

"A small business that receives one of these notices is very likely to feel alarmed and threatened," continued Graves. "The letter implies that this is a serious matter that could lead to assessments of additional tax, penalties, and interest."

Graves also protested that taxpayers are informed only that the reported income doesn't measure up to the average, but the letter doesn't give the recipient any idea of how much the disparity is or where the information is coming from. Furthermore, Graves noted that a small business owner receiving the letter is required to respond within thirty days, "but is not told exactly what he or she is expected to prove."

IRS officials say the letter doesn't constitute an audit and that the agency is merely requesting a small segment of employers to review their returns. "We want to reassure the relatively small number of business owners who receive these letters that the IRS is requesting information based on what the taxpayer reported on the return," the IRS said in a prepared statement reported by the Washington Post. The agency says it's "giving taxpayers the opportunity to explain and fix errors."